Second Chance

MANY INVESTORS NEVER THOUGHT they'd see the proud Galvin family cede control of its legacy, but that day has finally come.
Motorola's
chief executive, Christopher Galvin, has resigned from the electronics conglomerate his grandfather, Paul, founded in 1928. Having grown impatient with the Galvins' hold on the company, critics began calling for Christopher Galvin's head a few years ago. This was not so much because the scion led a turnaround that proved to be a mirage -- although that was certainly a factor. Instead, it was the culmination of years of frustration with a company that dwelled too much on past success. "It was never an issue of his intellect, but of judgment," says Alexander Blanton, a contract-manufacturing analyst at Ingalls & Snyder.

Christopher Galvin was considered a bright but disconnected leader, devoted to engineering and technology at the expense of marketing and design. And when it comes to the mobile-phone business, which Motorola invented, design-centric marketers are winning the battle. Motorola's failure to seize the latest trend in phones -- the inclusion of digital cameras -- comes on the heels of being late to benefit from the previous big trend: the emergence of small, sleek handsets in stylish interchangeable colors. The phone-as-fashion-accessory strategy worked like a charm for rival
Nokia
(see Strong Signals). The rest is history. Now, so is Galvin.

When we featured Motorola on our cover ("False Spring," April 30, 2001), we ran a caricature of Christopher Galvin shooting himself in the foot with a cellphone. Our thesis -- in which we continue to believe -- was that the conglomerate's assets were undervalued, but that Motorola would have to become more aggressive about selling incongruous or underperforming businesses, such as semiconductors, and increase its dependence on low-cost overseas outsourcing. Galvin accomplished a little of that -- too little for most critics. Now, there's rampant optimism at Motorola headquarters in Schaumburg, Ill., that a new CEO will take the hard steps that will finally unleash Motorola's formidable technological potential.

At least the market thinks so. Motorola shares closed at 12.53 Thursday, versus 11.09 on Sept. 19, the day the resignation was announced after the close of trading.

"Whoever the new CEO is at Motorola, there is the potential to divest some of the businesses through sale or spin- out," says RBC Capital Markets analyst Michael Walkley. One scenario calls for taking the much-maligned semiconductor unit public, which would let Motorola restructure its balance sheet. Finding an overseas buyer is another possibility. The name most often mentioned as Galvin's successor is Chief Operating Officer Mike Zafirovski, who honed his cost-cutting reputation as head of GE's notoriously low-margin light-bulb business. But some investors fear he lacks the leadership vision needed to revive Motorola. The need for that was reinforced Friday, when The Wall Street Journal reported that the company wouldn't deliver its long-awaited camera phones in time for the holiday season.

So the next CEO faces a big challenge, even though, an industry analyst says, he or she will enjoy one advantage -- not having to look around "to see if there's another Galvin" waiting in the wings.

-- Mark Veverka

United We Rise

Outperforming all others, United Technologies soars

LAST SPRING, THE WALL STREET JOURNAL posed an interesting question: namely, which stock of an industrial conglomerate had posted better performance than Jack Welch's fabled
General Electric
over the past 10-year, five-year, three-year or one-year period. The answer, of course, was Hartford, Conn.-based
United Technologies.
And the outperformance continues, with the stock rising nearly 50% to 80 from its March low of around 54 while GE jumped 45% from 22 to around 32.

Of course, Barron's readers with long memories would hardly have been surprised by United Technologies' sterling performance. For we sang the praises of the company in a Nov. 25, 1996, cover story entitled "Going Up." In the piece, we delineated the effectiveness of the restructuring effort of then and current CEO George David in squeezing out redundant costs, improving product quality and enhancing productivity. Among other things, he was able to completely revamp United Technologies' manufacturing processes by judiciously exploiting the best of Japanese manufacturing techniques. David, in marked contrast to Welch, was never one to call attention to himself. Nonetheless, we adjudged him to be the real deal.

Since then, the company's numbers as well as its stock performance have certainly borne out our conjecture. According to United, between 1997 and 2002, it transmuted average annual revenue growth of 5.8% into 16% annual earnings growth as a result of rising operating margins in its various businesses. While the S&P over that six-year period enjoyed a cumulative return of 31.8%, United Technologies stock has more than doubled. Yet United, at around 80, trades at a price/earnings ratio based on its trailing four quarters of 17.5 compared with a P/E of nearly 23 for GE.

In recent years, the company has prospered in part from the commercial and apartment building booms in the U.S. and Asia. Its Otis Elevator unit has a dominant global position in both the new-construction and retro-fit markets. Europe especially offers bright vistas, with so many old structures needing modernization.

United's Carrier operation is also a major player in the global heating and air-conditioning markets. United recently purchased Chubb PLC, a British electronic-security-system company. The combination of Chubb, Otis and Carrier will permit United to offer total packages of products to building owners.

United's Pratt & Whitney jet-engine business has been hard hit by the woes of commercial aviation, as has its Hamilton Sundstrand unit. Many of the airliners carrying Pratt engines have ended up being taken out of service. Pratt's all-important spare parts business has suffered from fewer engines in the air. But strong defense orders have bolstered the operations of both Pratt and United Technologies' Sikorski helicopter unit. Pratt, for example, won the lucrative primary contracts to supply the power plants for both the F-22 and F-35 Joint Strike Fighter.

United these days is something of a victim of its own success. Eleven of the 22 analysts covering the stock, according to Thomson/First Call, have a hold on the company because of the stock's spirited 50% rally since March. Yet given its modest P/E and luminous operating performance, United Technologies shouldn't be overly discounted. The company has proved a thoroughbred since our 1996 piece, performing well on both bad and good tracks.

-- Jonathan R. Laing

Wrong Numbers

Verizon won't rebound soon

VERIZON COMMUNICATIONS DIALED UP Wall Street last week to pass along an unpleasant surprise: Owing to heavy competition, a new labor agreement and, yes, the lousy weather, the nation's largest telephone company was reducing its earnings guidance for 2003 by as much as 7%, or 15 to 20 cents a share. The new figure is $2.56 to $2.60, down from $2.70 to $2.80. (That's $2.18 to $2.22 if the effects of some accounting changes and restructuring charges are taken into account).

Sheer size is not necessarily a source of great power, as we noted in a profile of the company two years ago ("The New Ma Bell," Sept. 3, 2001). Since the dawn of the 21st century,
Verizon's
revenues, profits and stock price have been shrinking steadily. The bad news the company issued on Tuesday was just the latest in a long string of earnings disappointments, write-offs and competitive challenges.

Is the news likely to get better? No. Verizon has been steadily losing business to wireless providers. Many young people don't even equip their homes with wire-line phone service, depending instead on cellphones and broadband cable. Even when its customers opt for Verizon's own wireless service or its broadband DSL service, the company suffers, because profit margins are relatively low. And slender profits are also the rule in the hotly competitive world of long-distance service, which Verizon was counting on for growth. Two years ago, Verizon changed hands north of 54 a share, and it touched bottom at 26.75 last September. The stock rebounded to 44 in early January, but hasn't done well since then. Tuesday's news produced a nearly 5% drop.

CEO Ivan Seidenberg professes optimism that an economic turnaround could spark demand for telecom services of all kinds, but, even at its current share price, the only attractive thing about Verizon seems to be the dividend yield of 4.6%. And that's so high, in great part, because the stock is so deservedly weak.

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